• Money is the commonly accepted medium of exchange in an economy.
• In an economy with only one individual, there can be no exchange of commodities, and hence, money has no role.
• Even in a scenario where multiple individuals exist, such as a family living on an isolated island, money is not needed if they do not engage in market transactions.
• Once more than one economic agent engages in market transactions, money becomes an essential instrument for facilitating exchanges.
• Barter exchanges are economic exchanges that do not use money. However, these require a double coincidence of wants, which is often improbable.
• Example: If an individual has a surplus of rice and wants clothing, they need to find someone with surplus clothing who wants rice. This matching of wants can be challenging and inefficient.
• The search for a matching exchange can lead to high transaction costs as the number of individuals increases.
• To simplify transactions, an intermediate good that is accepted by both parties is required, and this good is called money.
• With money, individuals can sell their products for money and use that money to purchase the goods they need.
• While the principal role of money is to facilitate exchanges, it serves other important functions in a modern economy.

FUNCTIONS OF MONEY

• The first and foremost role of money is that it acts as a medium of exchange, simplifying transactions compared to the barter system, which is inefficient due to high search costs for matching surpluses.
• Money serves as a unit of account, allowing the value of goods and services to be expressed in monetary terms. For example, if a wristwatch costs Rs 500, it means the wristwatch can be exchanged for 500 units of money (rupees).
• Relative prices can be calculated using money, such as the price of a pen relative to a pencil, and can also be used to determine the value of money itself in terms of other commodities.
• A general increase in the price level (inflation) causes the value of money to decrease, meaning that a unit of money can now purchase less of any commodity. This is called a deterioration in the purchasing power of money.
• The barter system has further deficiencies, such as the difficulty of storing wealth. For example, rice, being perishable, cannot be stored for long periods, and its exchange requires significant time and resources.
• Money solves this problem by acting as a store of value, allowing individuals to store wealth for future use. Unlike perishable goods, money is not perishable, has low storage costs, and is universally accepted.
• For money to perform as a store of value effectively, its value must be stable. A rising price level can erode the purchasing power of money.
• Other assets, like gold, land, houses, or bonds, can also act as a store of value but may not be easily converted into other commodities or universally accepted like money.
• Some countries aim to reduce cash usage and promote digital transactions, moving toward a cashless society, where financial transactions occur through digital information rather than physical money.
• In India, government reforms like Jan Dhan accounts, Aadhar-enabled payment systems, e-Wallets, and National Financial Switch (NFS) have supported the transition to a cashless society.
• Mobile and smartphone penetration across India has strengthened the potential for financial inclusion, making a cashless society a realistic goal.